Magazine article Global Finance

Supply Shock Could Rattle Treasury Market

Magazine article Global Finance

Supply Shock Could Rattle Treasury Market

Article excerpt

US treasury bond yields could rise sharply in 2018, as central-bank liquidity begins to recede and heavy new supply hits the market. As global quantitative easing (QE) ebbs, foreign demand for US treasury securities could ako be drying up.

"I am convinced that the European Central Bank's QE was eventually recycled in the US treasury market," says Vincent Deluard, head of global macro strategy at INTL FCStone Financial. "The ECB essentially bought banks' holdings of eurozone sovereign debt at a very nice markup, causing them to reinvest into higher-yielding US debt," he says.

The ECB will taper its purchases to euro30 billion ($35.2 billion) a month from January to September 2018, and presumably zero after that, Deluard says. ECB buying would fall to $314 billion in 2018, from $832 billion this year and $1 trillion in 2016, he says.

On the supply side, the US Treasury will need to roll over securities worth $3.5 trillion next year, an increase of $100 billion from this year. "Then there is also the small matter of'the largest tax cuts in the history of the country,' the financing of which now seems to rest on voodoo economics," Deluard says.

Peak QE happened in 201b, and net asset purchases by the five largest central banks should shrink by $825 billion in 2018, says Deluard. Conventional institutional investors are unlikely to pick up the slack, he adds. Defined-benefit pension plans are facing net outflows, and banks have already sold $126 billion in the second quarter of 2017. …

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